A Resource for Government Contractors

Monthly Archives: May 2014

Since Congress ignored the issue last year, DCAA has decided to create a FAR Case:

• Read-Only Access to Online Data. As discussed in the 2012 Report to Congress, DCAA continues to have concerns regarding the lack of access to contractor online data. Read-only access to the contractor’s books and records would greatly assist DCAA to effectively plan and perform all of the audit effort at a contractor location. While we have had some limited [12] success in working directly with contractors to obtain read-only access to online books and records, we believe that clarification to the regulations will ensure DCAA has the necessary access to contractors’ online data.

Specificity of the authority for direct and online read-only access to contractor’s data would improve both the audit and DCAA’s ability to support the Contracting Officer. Furthermore, this access would decrease the amount of costs and personnel resources needed by contractors to support audit requests for data. In addition, online read-only access would advance DCAA audit efforts by allowing real time contract cost monitoring and continuous risk analysis, including the use of advanced data analytics. As a result, DCAA will propose a new FAR case to pursue a clarification to the regulation

Supporting a couple of audits where the CO’s kicked DCAA out the door and replaced them with outside accounting firms.

I maintained from the onset that a world without DCAA was just going to make our lives more complicated and frustrating (see “The Consequences of a World Without DCAA”). Being the pessimist I am, it is usually a better day when I am wrong. I wish events would prove me wrong now, but that does not appear to our future.

I am sure I will be posting more of these over the next several months but let’s start with Incurred Costs Proposals 101, a class one of the major accounting firms need to provide for their auditors spending our tax dollars.

This was the silliest of a series of fairly ignorant questions sent one of my clients recently by an major CPA firm playing at being DCAA:

The original contract document “DOE Contract XX-XX99-123456789.pdf” includes a maximum G&A rate of 4.92%. Is this accurate, and if so, why is a 5.0% G&A rate used in the 2007 ICS?

The only silly item was the response from the partner when they put us on hold to find him and address our inquiry on this question.

His response: What this question actually means is: did you bill at the actual rates or the provisional rates. He then went on to claim that this was off of some internal developed worksheet of theirs. I guess he did not know that they his fellow auditors had already disclosed that they were muddling through the DCAA Adequecy Checklist.

You will note I employ use of the terms ‘claimed’ and ‘unclaimed’ as opposed to the terms ‘allowable’ and ‘unallowable’. Several years ago I began pushing for this characterization due to the negativity of the term ‘unallowable’. Congress and regulators, in their infinite wisdom, may decide not to support a normal business cost such as interest but auditors, as normal human beings, tend to begin to think of unallowable costs as bordering on evil.

Further, by moving to the term ‘claimed’ as opposed to ‘allowed’, the ownership of the decision of how to identify the costs is associated properly with the contractor. The tone changes to the contractor ‘claiming’ the costs as opposed to the government ‘allowing’ the costs.

One of the reasons Limited Liability Companies (LLC) achieved popularity among small business at their inception arose out of the myth about members not having to pay social security taxes.

To avoid a repeat of the problems the IRS experienced with S corporations and social security taxes (FICA) the IRS quickly jumped on the issue and declared all income from an LLC as earned and subject to social security taxes (FICA).

Part of the fallout of this resulted in tax law and GAAP denying a LLC member (owner) a salary except when the LLC elects treatment as a corporation.

This presents a problem for LLCs not electing corporation status when dealing with government contracts. If the contractor is not allowed to pay a member a W2 salary how does the contractor bill the government for the member’s efforts? Tax law and GAAP do not differentiate between what DCAA calls fair compensation (allowable) and profits (which cannot be claimed).

So what is a poor government contractor to do?

Surprisingly, the majority seem to pay their members a salary anyway; a simple solution that DCAA almost seems to welcome even though there are GAAP issues.

The other solution is corporation election.

Both these solutions, except possibly when the LLC takes the additional step of S Corporation election, result in member’s paying more in social security taxes(FICA) then a non-corporate LLC. Self-employment tax is calculated at less than the 15.3% that the member would pay as an employee and an employer, plus half of the self-employment tax is deducted from AGI (Adjusted Gross Income) on the 1040. Social security taxes are not. Yet, the employer share of FICA is deductible for the corporation which might even the last part out.

Anyone feel better about dealing with the FAR? I am trying to simplify what can be complex tax issues and I am not a tax accountant. Please do not try any of this at home and consult a tax professional.

There is another alternative, one I swear we all came up with fifteen or twenty years ago but neither DCAA or I seem to be able to find the guidance they issued around 1999. The FAR seems to refer to it in31.205-6 (a) (6) (i) where the FAR discusses the ‘need for special consideration’ for members of limited liability companies (and others) when addressing compensation for personal services.

What I believe the FAR is referring to is a method to separate out the ‘profits’ from ‘reasonable compensation’ for LLC members who need to charge for their services to the government both direct and indirect.

You begin by establishing a reasonable compensation rate for the said member, say seventy-five dollars ($75) and hour. The member’s time is recorded as any other employee and the ‘Level of Effort’ (LOE) is debited to the appropriate expense account. The credit is to a new member’s equity account which I will call Member’s Draw: Level of Effort”.

For example:

Direct Labor Project 1

$2,250

General & Administrative Labor

$525

B&P Labor

$225

Member’s Draw: Level of Effort (Walter)

$3,000

Walter’s level of effort is 40 hours at $75 an hour for a total of $3,000

When appropriate, definitely at yearend, these entries are reversed to bring the books in compliance with tax and GAAP requirements. Why you could even use the old 13th period trick for this.

In terms of timekeeping and labor distribution requirements to include total timekeeping and such, Walter is required to comply in the same manner as any employee.

I generally fight against adding to the Chart of Accounts if it is not absolutely necessary, but some contractors may wish to add special expense accounts to reflect these Level of Effort entries. Most software packages allow for special tracking or classification, I would recommend this if possible as opposed to adding a second direct labor account to every project for LOE.

A DCAA auditor asked me an excellent question on this issue a few weeks ago. Basically she asked what assurance the government had that these entries would be real, what was to keep the contractor from crediting these equity accounts and never relieving them. From her perspective, the government could ask for some reasonable assurance that the members would pull this money in a manner similar to an employee receiving a paycheck.

Some contractors might object to DCAA following this transaction to the Balance sheet but I actually terminated a relationship with a contractor over this issue several years ago. The contractor kept building up the equity account but never had the cash to relieve it. I believe this form of Level of Effort accounting only works when the account is relieved on a regular basis.

We agreed with DCAA’s thoughts and agreed to relieve the account on at least a monthly basis. I also noted that what the contractor did with the money after it was paid out to them was beyond the Level of effort discussion. In other words, if the contractor turned around and put money back into the LLC as a form of additional paid in capital, that was between the members and the LLC.

It just never gets dull, does it? If anyone finds that guidance from around 1999, please let me know.

Department of Commerce division physically destroys 2.7 Million dollars’ worth of computer hardware, to include monitors and keyboards, in an attempt to protect themselves from a virus that did not exist.

It is going to be close to seventy degrees in Albuquerque today, but for all of our friends on the east coast I thought it appropriate to review the guidance on weather related closures. As usual, Polices and Procedures play a major part. Here is the relevant guidance from the Defense Contract Audit Manual (CAM):

7-2124 Administrative Leave Due to Weather-Related Closures

When contractor personnel receive paid administrative leave due to inclement weather, the allowability and accounting treatment of such payments should be evaluated on a case-by-case basis in accordance with FAR 31.205-6. Paid absences are fringe benefits that, per FAR 31.205-6(m)(1), are allowable to the extent that they are reasonable in nature and amount and are required by law, employer-employee agreement, or an established policy of the contractor. The reasonableness of the amount paid is generally not an issue. The issue is whether or not the circumstances warranted the payment of administrative leave. Some factors to consider in determining reasonableness include the severity of the weather conditions and whether other businesses and organizations in the same geographical location were closed. The fact that the Federal Government suspended similar operations in the area due to the weather generally would support that it was reasonable for the contractor to incur the administrative leave costs. If the costs are determined to be allowable, they should be charged in accordance with the contractor’s disclosed or established cost accounting practice for charging paid absences.